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Should You Buy DSW Stock at Its Multiyear High?

This reborn footwear retailer could still have room to run.

Shares of DSW(NYSE:DSW) surged 20% to a multiyear high on Aug. 28 after the footwear and athletic apparel retailer's second quarter numbers crushed analyst estimates. DSW's revenue rose 16% year over year to $795.3 million, topping expectations by $105.9 million. Comparable store sales grew 9.7% -- its strongest growth rate in seven years -- thanks to higher store traffic, customer engagement, and total transactions.

DSW's non-GAAP net income surged 66% to $50.9 million, or $0.63 per share, which cleared estimates by $0.17. But on a GAAP basis, which includes one-time charges from the consolidation of its Canadian business, DSW reported a net loss of $38.4 million, or $0.48 per share, compared to a net profit of $28.7 million, or $0.36 per share, in the prior-year quarter.

Image source: Getty Images.

For the full year, DSW now expects revenue to rise 6%-9% and non-GAAP EPS to grow 5%-15%. Analysts had anticipated flat revenue and 6% EPS growth. DSW's growth rate looks solid, but is the stock still worth buying after its 70% rally over the past 12 months?

How DSW turned it all around

DSW struggled in recent years due to the saturation of the footwear market, competition from e-commerce giants, the bankruptcies of big footwear retailers, and footwear brands expanding their direct-to-consumer websites, apps, and brick-and-mortar stores.

However, DSW has started renovating its stores, expanding its selection of shoes, and even adding shoe repair, manicure, and pedicure services at some test stores. It has aggressively expanded its loyalty program, which now has over 25 million members. It's also investing heavily in acquiring new talent, boosting its marketing efforts, and keeping its inventory -- which was up 13% year over year to $597 million as of the end of last quarter -- under control.

DSW has also streamlined its business by abandoning faltering businesses like its e-commerce subsidiary EBuys and the shoe departments it operated within discount retailer Gordmans' stores. As part of that ongoing effort, DSW is sorting out its messy acquisition of the Canadian shoe retailer Town Shoes.

Image source: Getty Images.

Town Shoes generates most of its revenue from its Shoe Company and Shoe Warehouse banners, but its namesake chain has been racking up almost $10 million in annual operating losses. DSW recently decided to shutter its mall-based Town Shoes stores by the end of fiscal 2018 due to this weak performance.

Restructuring expenses, impairment charges, and other one-time costs caused DSW to report a big GAAP loss last quarter. However, the company expects the consolidation of its Canadian business -- which also includes DSW Canada -- to have a "slightly accretive impact" on its full-year non-GAAP earnings.

How fast is DSW growing?

DSW's comp sales growth has clearly improved over the past few quarters, thanks to waning industry headwinds, the company's ongoing turnaround efforts, and a lack of major natural disasters (like the hurricanes that reduced its third quarter sales last year).

Metric

Q3 2017

Q4 2017

Q1 2018

Q2 2018

Comps

(0.4%)

1.3%

2.9%

9.7%

Total revenue

1.7%

6.7%

2.2%

16.4%

Year-over-year growth. Source: DSW quarterly earnings.

However, DSW's decision to acquire and abandon various businesses over the past year distorts its revenue growth figures. DSW's comp sales growth of 9.7% during the second quarter -- which excludes the impact of acquisitions, store openings, and store closings -- is a better gauge of its overall growth.

That figure comfortably outpaces the growth of industry peers like Foot Locker (NYSE:FL), which posted just 5% sales growth and 0.5% comp sales growth last quarter.

Margins, valuation, and the dividend

DSW's gross margin expanded from 29.2% in the prior-year quarter to 32.1% last quarter, supported by lower clearance markdowns, favorable sourcing costs, and occupancy leverage at its DSW stores. However, the company's operating margin fell from 6.9% to 3.1% due to one-time expenses related to its ongoing turnaround and streamlining efforts.

The midpoint of DSW's full-year EPS forecast calls for 10.1% growth, which is slightly higher than the 9.5% growth analysts expect at Foot Locker. Yet DSW stock trades at about 20 times projected 2018 earnings, while Foot Locker trades at just 11 times this year's earnings. Looking further ahead, DSW trades at 18 times next year's earnings, while Foot Locker has a forward P/E of 10.

DSW's valuation looks a bit high, but its hefty forward dividend yield of 3.1% -- which tops Foot Locker's 2.8% yield -- could set a floor under the stock.

Should you buy DSW?

DSW's turnaround indicates that footwear retailers won't be annihilated by e-commerce challengers or first-party direct-to-consumer channels anytime soon. DSW stock isn't cheap at these levels, but I think the company's accelerating sales growth and big dividend could lift the stock to fresh highs.

Leo Sun has no position in any of the stocks mentioned. The Motley Fool recommends DSW. The Motley Fool has a disclosure policy.

Author

Leo is a Tech and Consumer Goods Specialist who has covered the crossroads of Wall Street and Silicon Valley since 2012. His wheelhouse includes cloud, IoT, analytics, telecom, and gaming related businesses. Follow him on Twitter for more updates!